Overview of The Insolvency Regime in HK Tanner de Witt 2011

Overview of the Insolvency Regime in Hong Kong
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This article appeared in the 2011 edition of The International Comparative Legal Guide to: Corporate Recovery and Insolvency published by
Global Legal Group Ltd[www.iclg.co.uk], London. You can download the PDF version here.
1 Issues Arising When a Company is in Financial Difficulties

1.1 How does a creditor take security over assets in Hong Kong?
Generally speaking, a creditor taking security over the assets of a Hong Kong
company is most likely to do so by either a fixed charge over specific assets of the
company or a fixed and floating charge over all assets and undertaking of the
company.
Assets that are expressed to be subject to a fixed charge are usually fixed assets such
as land, buildings and plant or certain types of intangible assets including intellectual
property rights and goodwill. The creditor may control the disposition by the company
of assets subject to a fixed charge.
In contrast, the company usually remains free to dispose of assets covered by a
floating charge until the occurrence of one of a number of particular specified events
causes the floating charge to "crystallise" into a fixed charge over the relevant asset.
Therefore floating charges are usually used to cover such assets as stock in trade or
the bank accounts of the company. It remains to be seen whether Hong Kong Courts
will follow the English authority of Spectrum Plus in considering the validity of fixed
charges over book debts.
Hong Kong has a registration regime for charges granted by Hong Kong companies
(and foreign companies required to be registered in Hong Kong), and charges subject
to the registration regime must be registered with the Hong Kong Registrar of
Companies within 5 weeks of creation. A company creating a charge which is required
to be registered must register the charge even if the relevant property is situated
outside Hong Kong, and in that case the charge may be registered even if further steps
are required to perfect the charge in another jurisdiction.
On a strict construction of the relevant legislation, certain charges (for example a
fixed charge over shares) are not required to be registered, but in practice creditors
will attempt to register any charge granted to them by a company.
A fixed charge over land should be registered with the Land Registry of Hong Kong in
addition to registration with the Hong Kong Registrar of Companies. There are also
specialist registration regimes for security over certain types of assets such as ships
and aircraft.
Hong Kong law allows for further consensual security interests in addition to fixed and
floating charges, but these are relatively less commonly granted by companies to
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creditors so are not discussed here. We have also not discussed the various types of
non-consensual security interests that may arise against a company.
1.2 In what circumstances might transactions entered into whilst the company is in
financial difficulties be vulnerable to attack?
Dispositions in a compulsory liquidation
In a compulsory liquidation (see question 2.1 below), any disposition of property or

transfer of shares (etc.) made after the commencement of the liquidation (which will be
on the presentation of the petition) will be void.
Unfair preferences
If the company in liquidation has previously entered into any transaction influenced by
the desire to prefer a particular creditor, guarantor or surety over other creditors, the
liquidator may apply to the Court to have the transaction set aside. However in order
to be set aside, the transaction must have occurred in the 6 months prior to the
commencement of the liquidation or two years prior to the commencement of the
liquidation if the transaction was with an "associate". There are various problems with
the definition of "associate" due to the definition being adopted from legislation dealing
with personal bankruptcy.
When hearing an application in connection with an alleged unfair preference, the Court
will not make any order prejudicial to the interests of a third party purchaser for value
of the relevant property who purchased in good faith and without notice.
Extortionate credit transactions
The liquidator may apply to the Court for various orders in connection with a previous
"extortionate" extension of credit to a company which is now in liquidation. The orders
that can be applied for include orders amending the terms of the relevant transaction
or voiding part or all of the obligations created by the transaction.
An application may be made in relation to the relevant credit transaction if it was
entered into during the following time periods:
a. In the case of a company being wound-up by the Court where the company has
by special resolution resolved that the company be wound-up, a period of three
years ending on the date of such resolution.
b. In the case of a company being wound-up by the Court where no resolution for
the winding-up of the company has been passed, a period of three years ending
on the date of the winding-up order.
c. In the case of a company being wound-up voluntarily, a period of three years
ending on the date of commencement of the winding-up.
A credit transaction is extortionate if, having regard to the risk accepted by the person
providing the credit, (i) the terms of it are or were such as to require grossly
exorbitant payments to be made (whether unconditionally or in certain contingencies)
in respect of the provision of credit or (ii) it otherwise grossly contravenes ordinary
principles of fair dealing.
The legislation provides that a credit transaction with respect to which the application
is made is (or was) extortionate, unless the contrary is proven.
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Floating charges
In addition to a floating charge being void against the liquidator and creditors of the
company if applicable registration periods are not complied with (see question 1.1
above), a floating charge (which includes any charge which was created as a floating
charge but has subsequently "crystallised" into a fixed charge) shall be invalid if the
relevant charge was created in a twelve-month period ending on the date of
commencement of the liquidation of the company and the company was already
insolvent at the time of creating the floating charge (or as a result of having created
the floating charge). However, the charge will nevertheless remain valid to the extent
that it secures money provided on or after the date of creation of the charge and
provided in consideration for the creation of the charge.
No application to the Court is required for a floating charge which is caught by the
relevant legislation to be held invalid. However, a charge where the debt owed to the
charge holder has already been fully discharged at the time the liquidation is
commenced will not be held invalid.
Fraudulent conveyance
This power to avoid a transaction arises under legislation governing land, but applies
to disposals of all types of property (not just real property). Under this power, every
transaction made with intent to defraud creditors shall be voidable at the insistence of
the relevant prejudiced party. However dispositions to purchasers for value without
notice of the intention to defraud shall not be voidable. This power to avoid has
historically been seldom used by liquidators.
Transactions at an undervalue
It should be noted that Hong Kong corporate insolvency law has no separate concept
of transactions at an undervalue (although there is for personal bankruptcy). However,
liquidators may consider using their power to institute a summary procedure against
the directors of the company for misfeasance in order to pursue the directors for
disposals of assets below market value, or alternatively consider bringing an action
against the directors in the name of the company for breach of their fiduciary duties in
executing such a transaction. The latter is more common.
1.3 What are the liabilities of directors (in particular civil, criminal or disqualification) for
continuing to trade whilst a company is in financial difficulties in Hong Kong?
Unlike England and Wales, Hong Kong has no concept of "insolvent trading" or
"wrongful trading". However, directors may be subject to both civil and criminal
penalties and a disqualification order if they engage in fraudulent trading (note that the
civil and criminal penalties apply to any persons who were knowingly parties to the
fraudulent trading, rather than being limited to directors). Fraudulent trading occurs
where any business of the company has been carried on with the intent to defraud
creditors of the company or creditors of any other person or for any fraudulent
purpose.
The applicable civil penalty is that the Court may, if it thinks proper to do so, declare
that any persons who were knowingly parties to the fraudulent carrying on of the
business shall be personally responsible, without any limitation of liability, for all or
any of the debts or other liabilities of the company as the Court may direct. The civil
penalty will only be applicable if the fraudulent trading becomes apparent in the course
of the winding-up of the company. The applicable criminal penalty may consist of a
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fine and/or a jail sentence of up to 5 years. There is no limit on the fine. The criminal
penalty may apply whether or not the company is being wound up.
Where the Court makes any declaration in connection with fraudulent trading it may
also make a disqualification order in relation to any directors who were knowingly
parties to the fraudulent trading.
Actions in connection with fraudulent trading are rare in Hong Kong, the main difficulty
being the requirement to show an intention to defraud.
2 Formal Procedures
2.1 What are the main types of formal procedures available for companies in financial
difficulties in Hong Kong?
The main formal procedures for companies in financial difficulties in Hong Kong are as
follows:
a. A scheme of arrangement.
b. Appointment of receivers.
c. A members' voluntary liquidation (which is only available for a company which is
still solvent) but may be used where, for example, an entity is itself solvent but is
part of a wider group which is in financial difficulty.
d. A creditors' voluntary liquidation.
e. A compulsory liquidation.
Hong Kong legislation also contains a procedure which allows the directors of a
company to commence a voluntary liquidation without holding a shareholders' meeting
- the procedure is discussed further under the "liquidation" heading in question 2.4
below.
Hong Kong currently lacks any formal procedure aimed at rescuing companies such as
can be found in some other common law jurisdictions (such as administration in
England and Wales, Chapter 11 procedures in the United States or judicial management
in Singapore). Out of the above procedures, only a scheme of arrangement could be
seen as aimed at preserving a company as an ongoing concern.
However the implementation of a scheme of arrangement in Hong Kong is a timeconsuming process involving a Court sanction. Furthermore, the initiation of
procedures to implement a scheme of arrangement does not provide the benefit of a
moratorium on creditor actions prior to the scheme becoming effective, which may
encourage "rogue" behaviour by individual creditors while the company pursues
sanction of the scheme. Therefore insolvency practitioners in Hong Kong have used
the appointment of a provisional liquidator (which is not in itself a separate procedure,
but forms part of the compulsory liquidation procedure) as a means of achieving
corporate rescue. However, Hong Kong judicial authority has stressed that a
provisional liquidator can only be given powers to attempt a corporate rescue where it
can first be shown that his appointment is necessary to protect the assets of the
company where the same are in jeopardy and would remain so without the immediate
appointment of a rovisional liquidator; and that a winding-up order will be sought if the
corporate rescue fails. Nevertheless, instances of using provisional liquidators to try to
achieve corporate rescue continue.
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Given the issues with using schemes of arrangement or provisional liquidators to effect
corporate rescue, there has been a general view that Hong Kong requires a statutory
procedure for corporate rescue. A proposed corporate rescue bill was mooted in 2001
but never introduced, and recently extensive consultation procedures were undertaken
with a view to updating the proposed corporate rescue bill and introducing it into Hong
Kong's Legislative Council by early 2011. The proposed corporate rescue procedure
was to be known as "provisional supervision". However at the time of writing (mid2011) the deadline for introducing the proposed corporate rescue bill has been missed,
and it is not now known when (or if) the bill will be introduced.
2.2 What are the tests for insolvency in Hong Kong?
As with many other common law jurisdictions, Hong Kong law has no definition of
"insolvency". Rather, Hong Kong law uses the expression, in relation to a company, of
"unable to pay its debts". There are three broad ways under Hong Kong law in which
to establish that a company is "unable to pay its debts":
a. failure (for a period of three weeks) to pay, secure or compound for (to the
reasonable satisfaction of the creditor) of a sum equal to or exceeding HK$10,000
which is then due and which has been the subject of a statutory demand;
b. failure to satisfy (in whole or in part) an execution or other processes issued on a
judgment, decree or order of any Court in favour of a creditor of the company; or
c. proving to the Court that a company is unable to pay its debts, taking into account
the prospective and contingent liabilities of the company (note that, unlike
England, the Hong Kong legislation does not refer to paying debts "as they fall
due").
When considering whether a company is unable to pay its debts under item (c) above,
it appears that the Court may apply either the "cash flow test" (meaning the company
cannot pay its debts as they fall due in the plain sense) or the "balance sheet
test" (considering the company's assets against its liabilities, including both contingent
and prospective liabilities) as the Court considers appropriate in all the circumstances.
2.3 On what grounds can the company be placed into each procedure?
Scheme of arrangement
The proposal of a scheme of arrangement is not limited to companies in financial

difficulties or potential insolvency. The procedure can also be used, for example, for
the reduction of share capital. A company, the shareholders of the company and/or the
creditors of the company are free at any time to attempt to reach a binding agreement
under Hong Kong's scheme of arrangement procedure. Further, even where a company
is undergoing a winding-up procedure, the power to initiate a scheme of arrangement
also resides with any liquidator of the company (and also any provisional liquidator, if
the provisional liquidator's powers include the power to seek a corporate rescue see
question 2.1 above).
Appointment of receivers
In Hong Kong receivers may be appointed: (i) by the Court; or (ii) out of Court,
pursuant either to a statutory power or a contractual right contained in the relevant
security document.
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Appointment of a receiver by the Court is at the discretion of the Court and the Court
will have regard to a "just and convenient test" when deciding whether to appoint the
receiver. The Court will sometimes also appoint a receiver by way of equitable
execution against a judgment debtor.
More commonly in respect of insolvency situations, receivers may be appointed under
any security document whose terms expressly allow the secured party to appoint a
receiver following the occurrence of particular events of default which have been
contractually agreed between the securing party and the secured party.
It should be noted, however, that in Hong Kong the statutory power, which implies the
right of a charge-holder to appoint a receiver, is narrower than in England & Wales.
This is because the Hong Kong statutory power to appoint a receiver arises only in
relation to land. Under the relevant legislation, there is implied into any legal charge
of, or equitable mortgage by deed of, land a power to appoint a receiver or receivers
of the mortgaged land and the income thereof when the mortgage money has become
due. The equivalent legislation in England & Wales allows appointment of a receiver
over "charged property" which extends beyond "land".
Liquidation
A members' voluntary liquidation is only possible where the company both decides to
put itself into voluntary liquidation and the directors of the company sign a "certificate
of solvency", to the effect that the directors have made a full inquiry into the affairs of
the company, and that, having so done, they have formed the opinion that the company
will be able to pay its debts in full within such period not exceeding 12 months from
the commencement of the winding-up as may be specified in the certificate of
solvency.
A creditors' voluntary liquidation will occur where the company decides to put itself
into voluntary liquidation but is not solvent. Therefore any voluntary liquidation in
which there is no certificate of solvency will be a creditors' voluntary liquidation.
The grounds for the Court to wind up the company in a compulsory liquidation are as
follows:
a. the company has by special resolution (which requires a majority of 75%)
resolved that the company be wound up by the Court;
b. the company does not commence its business within a year from its incorporation
or suspends its business for a whole year;
c. the company has no members;
d. the company is unable to pay its debts (see question 2.2 above);
e. the event, if any, occurs on the occurrence of which the memorandum and
articles provide that the company is to be dissolved; or
f. the Court is of the opinion that it is just and equitable that the company should be
wound up.
2.4 Please describe briefly how the company is placed into each procedure.
Once the company has finalised a proposal to be presented to its shareholders and/or
creditors, an application must be made to the Court for the Court's approval to
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convene meetings of each class of shareholders and/or creditors to be affected by the

scheme. Care should be taken that the classes of creditors are properly described in
the application for Court approval, as incorrect constitution of classes will lead to the
scheme failing due to lack of jurisdiction at the (later) sanction stage, even if passed at
the duly convened meeting. Unlike England, Hong Kong lacks any mechanism to
require the Court to address issues of class constitution prior to the relevant meetings
being held, and the jurisdictional basis for the Court doing so would be questionable.
Nevertheless, there has been at least one instance in Hong Kong of a judiciallysanctioned attempt to resolve class constitution issues at an early stage by the
company promulgating the scheme making an inter partes application for leave to
convene the relevant meetings (rather than on an ex parte basis as is usually done),
thus permitting creditors to argue whether certain of their number should or should not
be included in the relevant class.
In order for the scheme to be put into effect, it is necessary for each respective
meeting to approve the proposed scheme by both (i) a numerical majority of more than
50% and (ii) a majority of 75% in value. Following such approval, the scheme is again
put before the Court for final sanction. The Court will have regard to various
considerations when considering whether or not to sanction the scheme, including
whether those attending and voting at each meeting fairly represent the relevant class
and that the relevant majority have in each case acted bona fide and not promoted
interests adverse to the class they purport to represent.
Once the scheme has received final sanction by the Court, a copy of the relevant Court
order must be registered with the Hong Kong Registrar of Companies for the scheme
to become effective.
Appointment of receivers
An application for the appointment of a receiver by the Court is made by summons to a

Judge of the High Court of Hong Kong following a procedure set out in the Rules of the
High Court of Hong Kong. Note that a Master of the High Court of Hong Kong also has
the power to appoint a receiver where the appointment of the receiver is made by way
of equitable execution against a judgment debtor.
As regards the appointment of receivers out of Court, the procedure for appointment
will normally be set out in the relevant security document. A receiver appointed under
the statutory power implied into mortgages of land (see question 2.3 above) must be
appointed in writing. In order for the appointment of a Receiver out of Court to be
valid, the receiver must accept his appointment.
Liquidation
A compulsory liquidation is initiated with the presentation of a petition for the windingup of the company. The petition must be advertised in the Hong Kong Gazette and
newspapers at least 7 days before the hearing of the petition (unless the company
obtains an injunction against the advertising of the petition or there is another Court
order to the contrary). The petitioner also has various further filing and notice
obligations to the Court and other parties in connection with the petition. In turn, every
person who wishes to appear at the hearing of the petition must notify the petitioner of
his intention to do so before the hearing.
After satisfaction of requirements as to service and advertising, the petition is then
heard by the Court, which will make an order for the compulsory winding-up of the
company if it is satisfied that one of the grounds for the Court to wind-up a company
(set out in question 2.3 above) exist. The Court will not make a winding-up order if the
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company satisfies the Court that the debt upon which the petition is based on the
subject of a bona fide dispute on substantial grounds.
Following the presentation of the petition and prior to the hearing of the petition, the
Court may appoint a provisional liquidator to safeguard the assets of the company.
Following the making of the winding-up order, if no provisional liquidator has yet been
appointed the Official Receiver of Hong Kong becomes the provisional liquidator until a
liquidator is appointed pursuant to the procedures described in question 2.5 below.
A members' voluntary liquidation requires the directors of the company to sign a
"certificate of solvency" (see question 2.3 above) and the shareholders of the company
then passing a special resolution for winding-up (if the company is being wound up
pursuant to its Articles, only an ordinary resolution need be passed) and appointing a
liquidator. The members' voluntary liquidation commences on the date of passing of
the resolution for winding-up.
A creditors' voluntary liquidation requires the calling of a meeting of shareholders of
the company in order to pass a special resolution for the winding-up of the company.
Any meeting of shareholders which passes a special resolution for the winding-up of
the company without a director having signed a "certificate of solvency" (see question
2.3 above) will be deemed to create a creditors' voluntary liquidation. A meeting of
creditors must also be held on the same day as the shareholders' meeting or on the
following day and a statement of affairs of the company should be laid before the
meeting. Notice of the meeting of creditors should be given at the same time as notice
of the shareholders' meeting (which will require 21 days' notice), and must also be
advertised in the Hong Kong Gazette and in newspapers. Among the items of business
at the first meeting of creditors, the creditors should nominate, and vote for the
appointment of, a liquidator. Any nomination of a liquidator by the creditors will prevail
over any nomination of a liquidator by the shareholders in the event of conflict. The
creditors' voluntary liquidation commences on the date of passing of the members'
resolution for winding-up.
Note also that the Hong Kong legislation allows the directors of the company to
commence a voluntary winding up without a shareholders' meeting. This type of
voluntary liquidation is initiated by a directors' meeting at which it must be resolved,
among other things, that the company cannot by reason of its liabilities continue its
business, that the directors consider it necessary that the company be wound up and
that it would not be reasonably practicable for the company to be wound up under any
of the other procedures prescribed by the legislation (with reasons provided to support
the latter two views). A statement signed by one of the directors and covering the
matters in the resolution must be delivered to the Hong Kong Registrar of Companies
within 7 days of being made. A director who makes the statement that the company
cannot by reason of its liabilities continue its business and that it is not reasonably
practicable to commence the winding-up in any other manner without having
reasonable grounds for believing so shall be liable to a fine and imprisonment. Once
the winding-up statement has been delivered to the Hong Kong Registrar of
Companies:
a. the winding-up commences;
b. the directors must forthwith appoint a person to be provisional liquidator; and
c. meetings of shareholders and creditors must be summoned for a date no later
than 28 days after the date of delivery of the statement.
No later than 14 days after the provisional liquidator is appointed, the provisional
liquidator must deliver a notice of his appointment to the Hong Kong Registrar of
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Companies and the directors must give notice in the Hong Kong Gazette of both the
commencement of the winding-up of the company under this procedure and of the
appointment of the provisional liquidator. From the time of the first meeting of
creditors onwards, a winding-up under this procedure progresses in the same manner
as a creditors' voluntary winding-up commenced by a meeting of members (with the
statutory provisions governing creditors' voluntary windings-up applying).
2.5 What notifications, meetings and publications are required after the company has
been placed into each procedure?
After the Court has given leave to convene the relevant meetings (described in
question 2.4 above), the time and place of the meetings will need to be advertised in
accordance with the order allowing the meetings and notices sent to all known
shareholders/creditors falling within the class(es) to be affected by the scheme.
After the meetings (if the appropriate resolutions to approve the scheme are passed), a
petition for sanction must be presented. At the hearing of such petition, the Court will
determine whether the scheme is one which ought to be sanctioned taking into account
the rights of the constituents of the class(es) of shareholders/creditors affected.
Receivership
The Hong Kong Registrar of Companies must be notified within seven days of the
appointment of a receiver, and must also be notified where the receiver ceases to act.
Where a receiver of the whole or substantially the whole of the company's property is
appointed on behalf of the holder of a floating charge, the company must also be
notified forthwith. Once the company is notified of the appointment of the receiver, the
company must submit a statement of affairs of the company to the receiver within 14
days of the notification. The receiver must in turn, within two months of the receipt of
the statement of affairs, send a copy of the statement of affairs together with his
comments on the statement of affairs to the Hong Kong Registrar of Companies (and
also to the Official Receiver of Hong Kong or the Court, depending on the manner of
appointment of the receiver). The Hong Kong Registrar of Companies must also
receive from the receiver a summary of the statement of affairs and comments
thereon, and such summary must also be sent to the trustee for the debenture holders
who appointed him and to all such debenture holders of whose address the receiver is
aware. A copy of the comments on the statement of affairs must also be sent to the
company, and if no comments are made the receiver must send the company a notice
advising the company that he has no comments.
During the period that the receiver is appointed, every document produced by the
company or on behalf of the company on which the company's name appears (including
letters, invoices, etc.) shall reveal that a receiver has been appointed.
Liquidation
(a) Compulsory liquidation
Following the making of the winding-up order, the Official Receiver (or provisional
liquidator if previously appointed) must serve a sealed copy of the order on the
company and on the Hong Kong Registrar of Companies. The Official Receiver of Hong
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Kong must also advertise the Order in the Hong Kong Gazette and newspapers, and
will notify various other parties (including but not limited to the company's known
creditors, banks and landlords) of the making of the order.
If no provisional liquidator had been appointed prior to the winding-up order, a
statement of affairs of the company must be delivered to the liquidator or provisional
liquidator with 28 days of the winding-up order (if a provisional liquidator was
appointed prior to the making of the winding-up order, the statement of affairs must be
delivered within 28 days of the appointment of the provisional liquidator). Following
both receipt of the statement of affairs (unless the court has ordered that no statement
need be submitted) and the making of the winding-up order, the liquidator must
investigate the causes of failure of the company (if applicable) and the affairs of the
company and present a report thereon to the Court. This will ordinarily occur some
time after the winding-up order.
Within 3 months of the date of the winding-up order the provisional liquidator (whether
the Official Receiver or a person previously appointed) must call separate meetings of
the creditors and contributories of the company, for the purpose of deciding whether
to apply to the Court for the appointment of a liquidator in place of the provisional
liquidator and to decide whether to apply to the Court for the purpose of appointment
of certain of the creditors and contributories to a committee of inspection (being a
body to act as a sounding board for the liquidator and whose sanction is needed before
the liquidator can take certain steps). At least 7 days' notice of each meeting must be
given to the creditors and contributories respectively and 7 days' notice of each
meeting must also be given to such of the directors and other officer of the company
who in the liquidators' opinion ought to attend the first meeting of creditors and/or the
first meeting of contributories. The provisional liquidator or liquidator must also send a
summary of the company's statement of affairs to the creditors and contributories as
soon as practicable.
Note however that where the Court is satisfied, or the Official Receiver of Hong Kong
or provisional liquidator reports to the Court, that the assets of the company are
unlikely to exceed HK$200,000, the Court may make an order that the company be
wound up in a summary manner. In that case the Official Receiver of Hong Kong or
other provisional liquidator (as applicable) shall become the liquidator and there will be
no initial meetings of creditors or contributories and no committee of inspection.
Furthermore, any of the Official Receiver of Hong Kong, the liquidator or any creditor
may apply to the Court to make a "regulating order" by reason of the large number of
creditor or contributories or for any other reason the interest of creditors so requires.
A regulating order permits the winding-up to be regulated by the Court according to
the terms of its order, which procedures will not necessarily be the same as for a
normal winding-up. In addition, the Official Receiver (but no other person) may apply
to the Court for an order that there be no first meeting of creditors and contributories
and the committee of inspection and that the liquidator shall be appointed by the Court
(in this case the liquidator shall be either the Official Receiver of Hong Kong or a
person nominated by the Official Receiver of Hong Kong).
If a committee of inspection is appointed following the first meetings of creditors and
contributories, the committee of inspection must meet at least once a month. The
liquidator must at any time during the liquidation call such further meetings of
creditors and/or contributories as may be directed by (i) by the creditors or
contributories by resolution of the creditors and contributories respectively or (ii) in
writing at any time by one-tenth in value of the creditors and contributories as the
case may be. The Court also has the power to call meetings of creditors and/or
contributories in order to ascertain their wishes.
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The liquidator has various further consequential filing, notification and reporting
requirements in connection with his conduct of the liquidation, his investigations into
the company and its directors and the termination of the liquidation.
(b) Members' voluntary liquidation
If the winding up of the company has been commenced by a special resolution (see
question 2.4 above), the special resolution must be sent to the Hong Kong Registrar of
Companies within 15 days. The notice of appointment of the liquidator must be sent to
the Hong Kong Registrar of Companies within 21 days. As for advertising, the passing
of the resolution for winding-up must be advertised in the Hong Kong Gazette within
14 days and the appointment of the liquidator must be advertised in the Hong Kong
Gazette within 21 days.
In the event of the winding up continuing for more than one year, the liquidator shall
summon a General Meeting of the company at the end of the first year from the
commencement of the winding up, and of each succeeding year, or at the first
convenient date within 3 months from the end of the year or such longer period as the
Official Receiver of Hong Kong shall allow. The liquidator shall present before the
meeting an account of his acts and dealings and of the conduct of the winding up
during the preceding year.
Immediately following the affairs of the company being fully wound up, the liquidator
must make up an account of the winding up and call a General Meeting of the company
for the purpose of laying before it the account and explaining it. The relevant General
Meeting must be called by advertisements in the Hong Kong Gazette which specify the
time, place and object of the meeting and give at least one month notice of the
meeting.
Within one week of the meeting the liquidator shall send a copy of the account and a
return of the meeting to the Hong Kong Registrar of Companies. If there was no
quorum at the meeting, the liquidator shall make a return that the meeting was duly
summoned and that no quorum was present thereat. On the expiration of 3 months
from the Hong Kong Registrar of Companies registering the relevant return, the
company shall be dissolved.
If the liquidator is of the opinion that the company will not be able to pay its debts in
full during the relevant period following the passing of the resolution to wind-up the
company as a members' voluntary liquidation, he must forthwith convene a meeting of
creditors and present to the meeting a statement of the assets and liabilities of the
company. At such a meeting the creditors have the statutory power to replace the
liquidator and appoint a committee of inspection if they see fit. It should be noted that
the statutory provisions governing this meeting of creditors are generally regarded as
being inadequate in terms of providing for the conduct of the meeting, and the Hong
Kong Law Reform Commission has previously recommended the adoption of more
detailed legislative provisions governing the conduct of equivalent meetings in England
and Wales.
Throughout the members' voluntary liquidation the liquidator shall have various further
notification requirements to various parties, such as the creditors of the company.
(c) Creditors' voluntary liquidation
The initial meeting of creditors is dealt with in question 2.4 above.
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The notification and advertising requirements for the passing of the resolution to wind
-up the company and the appointment of the liquidator are the same as in a members'
voluntary liquidation, allowing for the fact that the creditors' voluntary liquidation will
always be commenced with a special resolution of the company.
Unlike a members' voluntary liquidation, the creditors' voluntary liquidation allows the
creditors to appoint (at the initial meeting of creditors or any subsequent meeting) a
committee of inspection. If a committee of inspection is appointed, it shall meet at least
once a month.
The requirements on the liquidator for notification, filing and the calling of interim and
final meetings are broadly the same as in a members' voluntary liquidation, save that in
each case where a meeting of shareholders is called a separate meeting of creditors
must also be called.
3 Creditors
3.1 Are unsecured creditors free to enforce their rights in each procedure?
A scheme of arrangement only becomes binding on all creditors (within the classes
affected) once it has received final approval from the Court and the approval has been
filed with the Hong Kong Registrar of Companies. Until those conditions have been
satisfied, unsecured creditors are free to take any action available to them in order to
enforce any rights they may have against the company, including petitioning to put the
company into liquidation.
Receivership
During the appointment of a receiver, unsecured creditors remain free to take any
action available to them in order to enforce any rights they may have against the
company, including petitioning to put the company into liquidation.
Liquidation
The rights of unsecured creditors to take independent action are severely restricted in
any liquidation. In a voluntary liquidation, there is no general stay of proceedings
gainst the company but unsecured creditors will not be allowed to use any Court
enforcement mechanisms to "jump the queue" and use any judgment obtained to stand
in a better position than other unsecured creditors. In a compulsory liquidation,
following presentation of the petition the company or any creditor or contributory may
apply to the Court to stay any pending action or proceeding against the company.
Following the winding-up order no action or proceeding shall be proceeded with or
commenced against the company except by leave of the court. Note however that
Hong Kong law includes a provision (based on Australian rather than English law)
permitting the Court to make an order allowing a creditor to have an advantage over
other creditors in certain circumstances where that creditor has funded, or given an
indemnity, in respect of costs of steps taken to protect the company's assets or
achieve recoveries.
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3.2 Can secured creditors enforce their security in each procedure?

For reasons discussed in question 3.1 above, secured creditors remain free to enforce
their security against the company until the moment the scheme becomes binding on
all creditors.
Receivership
During the appointment of a receiver, any secured creditors who did not appoint the
receiver also remain free to enforce their own security, subject to the priorities
applying between the securities (and the priorities of preferential creditors over
floating charge holders).
Liquidation
Secured creditors stand outside of the ordinary order of priority in a liquidation and
are entitled to be paid out of the proceeds of their security. Along with unsecured
creditors they can still prove for the residual amount. Such a creditor is required to
estimate the value of his security at the time of filing his proof of debt, otherwise he
will run the risk of forfeiting his security. Note, however, that one exception to this
principle is where the security was created as a floating charge, any preferential debts
of the company must be paid out of the proceeds of realisation of the charge before
the charge-holder is paid.
3.3 Can creditors set off sums owed by them to the company against amounts owed by
the company to them in each procedure?
There are no special principles of set-off that apply in schemes of arrangement or

receiverships.
However, principles of insolvency set-off adopted from the legislation dealing with
personal bankruptcy apply in any liquidation. In brief, under these principles sums
owed by a creditor to the company being wound-up shall be set-off against amounts
owed by the company being wound-up to such creditor. For the setoff to apply there
must have been mutual credits, mutual debts or other mutual dealings between the
parties at or before the date the winding-up order was made but the set-off will not be
available if the creditor was aware that a petition had been presented at the time he
gave credit.
4 Continuing the Business
4.1 Who controls the company in each procedure? In particular, please describe briefly
the effect of the procedures on directors and shareholders.
Scheme of Arrangement
During a scheme of arrangement the persons in control prior to the scheme (whether
directors, liquidators or receivers) retain the control which they ordinarily have and
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the shareholders' rights are modified only to the extent that this is provided for in a
binding scheme.
Receivership
If a receiver is appointed, the power of the directors will be suspended to the extent
that they are inconsistent with the right of the receiver to exercise the powers
conferred on him in connection with his appointment. Shareholders will have their
decision-making powers in relation to the company similarly abrogated.
Liquidation
(a) Directors
In a members' voluntary liquidation, the powers of the directors cease, except so far
as the company in a General Meeting or the liquidator sanctions the continuance
thereof.
In a creditors' voluntary liquidation, the powers of the directors cease, except so far as
the committee of inspection or, if there is no committee, the creditors sanction the
continuance thereof.
In a compulsory liquidation, the powers of the directors cease with the making of the
winding-up order, although they retain the power to appeal, in the company's name,
against the winding-up order.
(b) Shareholders
Given the broad powers a liquidator has to manage any type of liquidation, the rights of
the shareholders to make decisions in connection with a company following the
appointment of a liquidator effectively cease (however note the power of the
shareholders to vote for continuance of the directors' powers in a members' voluntary
liquidation).
4.2 How does the company finance these procedures?
The financing of various procedures for companies in financial difficulty is a complex

area which is beyond the scope of this article.
4.3 What is the effect of each procedure on employees?
The initiation and sanction of a scheme of arrangement have no effect on employees.

Note however that employees are creditors of the company in respect of their claims
for wages and other amounts due to them, and may therefore in some cases be better
off in a liquidation than in a scheme of arrangement, as, if the company is in liquidation,
employees will have the status of preferential creditors in respect of various amounts
owed to them and may also be entitled to an ex gratia payment out of Hong Kong's
Protection of Wages on Insolvency Fund. These protections would not be available
under a scheme of arrangement.
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Receivership
The appointment of a receiver by a charge holder will not have the effect of
automatically terminating any of the company's employment contracts.
Liquidation
In a compulsory liquidation all employment contracts will be automatically terminated

by the winding-up order, unless ordered otherwise by the court.
The commencement of a voluntary liquidation will not automatically terminate
employment contracts.
However, see also the discussion under "Scheme of Arrangement" above regarding the
operation of Hong Kong's Protection of Wages on Insolvency Fund ("PWIF") in a
liquidation. It is important to note that the PWIF scheme will not make payments in
respect of a voluntary liquidation. If, therefore, employees wish to be paid by the PWIF
scheme where a CVL has been commenced, they will need to start, in parallel,
compulsory winding-up proceedings.
4.4 What effect does the commencement of any procedure have on contracts with the
company and can the company terminate contracts during each procedure?
The initiation and sanction of a scheme of arrangement have no effect on the contracts
of a company.
Receivership
The appointment of a receiver by a charge holder will not have the effect of
automatically terminating any of the company's contracts.
Liquidation
Other than employment contracts in a compulsory winding-up, the contracts of a

company do not automatically terminate on the commencement of any kind of
liquidation. Note however that, in a compulsory liquidation, any disposition of property
or transfer of shares (etc.) made after the commencement of the compulsory
liquidation (which will be on the resentation of the petition) will be void. Note also the
liquidator's powers to avoid certain transactions (see question 1.2 above) and to
disclaim onerous property, which includes unprofitable contracts.
5 Claims
5.1 Broadly, how do creditors claim amounts owed to them in each procedure?
As a scheme of arrangement which has been successfully implemented is binding on all

classes of creditors, there is no way for creditors to claim the amount due to them
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other than by following any procedure for claiming which will be included in the
relevant scheme of arrangement.
Receivership
A receiver appointed by a creditor must first pay any creditor with security over
relevant property which ranks ahead of the creditor who appointed him. However the
receiver has no obligation to pay unsecured creditors of the company (save for certain
obligations to preferential creditors who will rank ahead of floating charge holders).
Therefore those unsecured creditors must look to alternative methods of being paid
the amounts due to them, including potentially putting the company into liquidation.
Liquidation
In a compulsory liquidation each creditor must submit a formal written proof of debt. In
a Creditors' Voluntary Liquidation there is no strict legal requirement for a formal
written proof, but in practice the liquidator will nevertheless usually invite creditors to
submit their claims in writing.
In compulsory liquidations the Court has the power to decide the date by which
creditors must prove for the debts owed to them. Furthermore the liquidator has the
power (applicable in all types of liquidation, whether compulsory or voluntary) to set a
date by which creditors must submit their proof (provided that at least 14 days' notice
is given).
Broadly speaking, the relevant legislation provides that "all debts and liabilities,
present or future, certain or contingent...shall be deemed to be debts provable". There
are however certain specific exceptions, such as statute-barred debts, debts which
could not be sued upon (e.g. foreign tax) and debts incurred after the winding-up
petition was presented, if the debtor had notice of the petition.
The liquidator must adjudicate the proofs of debt received and has the power to reject
a proof of debt if he does not regard it as proved to his satisfaction. The liquidator's
rejection of a proof of debt may be appealed to the Court by the relevant creditor
within 21 days. Only creditors who have successfully proved for their debt may
receive payment from the liquidator out of the realised assets of the company.
5.2 What is the ranking of claims in each procedure? In particular, do any specific types
of claim have preferential status?
As a successfully implemented scheme of arrangement is binding on all creditors of

the company within the class(es) affected by the scheme, the ranking of claims will be
that agreed in the relevant scheme of arrangement.
Receivership
A receiver shall pay the holder of any security (over the relevant property) ranking
ahead of the security under which he was appointed in priority to the holder of the
security under which he was appointed. Additionally, the receiver shall pay
preferential creditors of the company (see the discussion of preferential creditors in
relation to liquidation below) in priority to any floating charge holder.
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Liquidation
Broadly speaking, the order of payment in a liquidation is as follows:

a. The costs and expenses of the liquidation.
b. Debts due to any preferential creditors of the company. Some categories of
preferential creditor only apply in certain types of insolvency (such as banks or
insurers), but generally speaking the main categories of preferential claim are
debts owed to employees and debts owed to the Government (to the extent that
an employee has received money from the Protection of Wages on Insolvency
Fund, the Fund will be a preferential creditor in place of the employee).
c. Any preferential charges on goods distrained.
d. The company's general creditors.
e. The shareholders.
Note that in certain cases a separate provision is made for interest on the debts under
(b), (c) and (d) above which have been outstanding since the commencement of the
relevant procedure.
Ordinarily, secured creditors who choose to enforce their security stand outside the
order of priorities set out above - see question 3.2 above. However, their rights to the
proceeds of enforcement of security will be subject to the costs and expenses of
realising the asset and, in the case of a floating charge, the rights of any preferential
creditors.
5.3 Are tax liabilities incurred during each procedure?
The general principle applicable in all procedures is that, as long as the company
continues to trade, it is subject to tax on its profits.
In a liquidation, domestic tax liabilities will generally be preferential claims against the
company see question 5.2 above.
6 Ending the Formal Procedure
6.1 Is there a process for "cramming down" creditors who do not approve proposals put
forward in these procedures?
The procedure best suited for "cramming down" creditors (in the sense of binding all
creditors to be bound to a restructuring plan) is through a scheme of arrangement. If
the necessary majority is achieved (75% in value and more than 50% in number at a
meeting of each class of creditors), the scheme is subsequently sanctioned by the
Court and then the relevant Court order is registered with the Hong Kong Registrar of
Companies, the scheme will become binding on all the company's creditors within the
class(es) affected by the scheme. However note that the existence of dissenting
creditors may in certain cases affect the ability to get the scheme sanctioned by the
Court, as the Court will consider (among other things) whether those attending and
voting at each meeting fairly represent the relevant class and that the relevant
majority have in each case acted bona fide and not promoted interests adverse to the
rights of the class they purport to represent (see question 2.4 above).
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6.2 What happens at the end of each procedure?

Once the Scheme has been concluded and notice of conclusion of the scheme has been
filed at the Hong Kong Registrar of Companies, the company will continue to trade as
reorganised by the scheme.
Receivership
Once the receiver has realised the relevant property and paid any relevant preferential
creditors (who rank ahead of floating charge holders) and the applicable security
holders, then if the company has not been placed into liquidation by any party the
company will continue to trade.
Liquidation
In a members' voluntary winding up and a creditors' voluntary winding up, the company
will be permanently dissolved 3 months after the Hong Kong Registrar of Companies
registers the final account and return filed by the liquidator following the relevant final
meeting or meetings.
In a compulsory winding up, once the affairs of a company have been completely
wound up the liquidator may make an application to the Court that the company be
permanently dissolved from the date of the order. Alternatively once the affairs of the
company have been completely wound up and the liquidator has been granted his
release, either the liquidator or the Official Receiver of Hong Kong may deliver to the
Hong Kong Registrar of Companies a certificate stating that both of those conditions
are satisfied and the company will be automatically dissolved within 2 years from the
date of registration of such certificate.
7 Alternative Forms of Restructuring
7.1 Is it common to achieve a restructuring outside a formal procedure in Hong Kong? In
what circumstances might this be possible?
In the late 1990s (to assist in dealing with the aftermath of the Asian Financial Crisis)
the Hong Kong Association of Banks ("HKAB") and the Hong Kong Monetary Authority
("HKMA") produced the Hong Kong Approach to Corporate Difficulties. These are
guidelines to how Hong Kong banks should approach dealing with corporate borrowers
in financial difficulty and implementing corporate workouts. The guidelines encourage
banks to resolve the issues of a borrower in financial difficulty through methods other
than a formal procedure. However these guidelines do not have any binding legal
effect, and are not expressed to apply to any entities other than banks.
Further, these guidelines are less relevant today than in the 1990s, given that many
participants (on the creditor side) of restructurings are funds (private equity or
otherwise) or other entities that fall outside the auspices of the HKAB or HKMA. This,
in part, has been due to the development over this period of a more mature debt
trading market in Hong Kong.
In any event, attempts to achieve a consensual restructuring outside a formal
procedure remain relatively common in Hong Kong. There are any number of ways of
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doing this, depending on the type of company, the assets and their locations etc.
Common elements include a debt-for-equity swap, where lenders exchange some or
all of their debt for equity in the company; the issue of convertible notes at a very low
rate of interest which allow lenders the option of converting into shares; or through a
"white knight" investor.
7.2 Is it possible to reorganise a debtor rather than realise its assets and business?
The only formal ways to reorganise a debtor without realising its assets and business
would be through the use of a scheme of arrangement or the appointment of a
provisional liquidator. However there are various issues with both of these methods
and the market view is that Hong Kong should enact a statutory corporate rescue
procedure, as discussed in question 2.1 above.
Outside of the formal methods, it is possible to use various informal methods as
discussed in question 7.1 above, but the danger with these informal methods is of
course that there is no legal barrier to a dissenting creditor initiating a formal
procedure against the company and the authorities show that the Court has little power
to prevent such action, which will often spoil restructuring. Note that in Hong Kong,
once a winding-up order has been sealed, it cannot be set aside.
7.3 Is it possible to achieve an expedited restructuring of the debtor by means of a prepackaged sale? How is such a sale effected?
There is no specific legal framework for pre-packaged sales in Hong Kong, nor are
there any informal guidelines specifically covering pre-packaged sales issued by
industry bodies.
Pre-packaged sales nevertheless have been attempted in Hong Kong, but are perhaps
more difficult to achieve than in many other jurisdictions due to the lack of any real
equivalent to procedures such as English administrations, United States Chapter 11
procedures or judicial management in Singapore (see question 2.1 above). Attempts
have met with some judicial resistance, which is understandable given the reliance by
Hong Kong law on formal procedures such as liquidation.
8 International
8.1 What would be the approach in Hong Kong to recognising a procedure started in
another jurisdiction?
Hong Kong has not enacted the UNCITRAL Model Law on Cross-border Insolvency
and there are no statutory provisions in Hong Kong covering the recognition, or even
assistance, of insolvency procedures commenced in other jurisdictions. Because of
this, the area of cross-border insolvency law is far from straightforward. However, the
judiciary has been keen to use (in appropriate circumstances) common law rules and
provisions to assist, including recognition of receivers appointed by foreign courts and
the creation of protocols to deal with situations where courts of elsewhere are also
involved in the insolvency proceeding.
However Hong Kong Courts will usually recognise the authority of an insolvency
practitioner appointed in the jurisdiction of the company's incorporation in appropriate
circumstances (the Court may refuse to recognise the procedure in certain instances
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including where the procedure was commenced in order to enforce a foreign penal or
revenue law) or does not adhere to the pari passu rule for treating all creditors
equally.
Notwithstanding these attempts by the Hong Kong Courts to assist in cross-border
insolvency matters, the law in Hong Kong remains complex in this area.
Copyright 2012 TannerDeWitt
6/4/2012

Overview of The Insolvency Regime in HK Tanner de Witt 2011

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Overview of the Insolvency Regime in Hong Kong

1 Issues Arising When a Company is in Financial Difficulties

Overview of the Insolvency Regime in Hong Kong

In a compulsory liquidation (see question 2.1 below), any disposition of property or

Overview of the Insolvency Regime in Hong Kong

Overview of the Insolvency Regime in Hong Kong

Overview of the Insolvency Regime in Hong Kong

The proposal of a scheme of arrangement is not limited to companies in financial

Overview of the Insolvency Regime in Hong Kong

Overview of the Insolvency Regime in Hong Kong

convene meetings of each class of shareholders and/or creditors to be affected by the

An application for the appointment of a receiver by the Court is made by summons to a

Overview of the Insolvency Regime in Hong Kong

Overview of the Insolvency Regime in Hong Kong

Overview of the Insolvency Regime in Hong Kong

Overview of the Insolvency Regime in Hong Kong

The initial meeting of creditors is dealt with in question 2.4 above.

Overview of the Insolvency Regime in Hong Kong

Overview of the Insolvency Regime in Hong Kong

3.2 Can secured creditors enforce their security in each procedure?

There are no special principles of set-off that apply in schemes of arrangement or

Overview of the Insolvency Regime in Hong Kong

The financing of various procedures for companies in financial difficulty is a complex

The initiation and sanction of a scheme of arrangement have no effect on employees.

Overview of the Insolvency Regime in Hong Kong

In a compulsory liquidation all employment contracts will be automatically terminated

Other than employment contracts in a compulsory winding-up, the contracts of a

As a scheme of arrangement which has been successfully implemented is binding on all

Overview of the Insolvency Regime in Hong Kong

As a successfully implemented scheme of arrangement is binding on all creditors of

Overview of the Insolvency Regime in Hong Kong

Broadly speaking, the order of payment in a liquidation is as follows:

Overview of the Insolvency Regime in Hong Kong

6.2 What happens at the end of each procedure?

Overview of the Insolvency Regime in Hong Kong

Overview of the Insolvency Regime in Hong Kong

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